Update cap 1 basically enforces that you can only have one physics update per frame, so that if frame rate falls below the physics rate, the effective physics rate also falls by the same amount. E.g. if you only get 30 fps at 60 Hz, then you will be running 1 physics update per frame (30 physics updates per second). This will slow the physics of the game down to half speed (because 30/60 = 0.5), but it will also ensure sync between frames and physics updates which will look the smoothest.
Update cap 1 is probably the best if your fps only tends to fall a little bit (single digits) under your physics rate - you get the frame synced physics and the slowdown is probably not too noticeable.
But as soon as the slowdown from a drop in framerate becomes noticeable, it's better to have Update cap 2 or 3. Those allow multiple physics updates per frame. Update cap 2 allows frame rate to be half of the physics rate before there's slowing down, and update cap 3 allows frame rate to be 1/3 of the physics rate before there's slowing down.