“And once again, into battle!”

Team Composition - Option 2, but I would swap the Dwarves and Elves; the first combination looks very disadvantageous against the Undead and Dungeon factions.
Counter Strategy - Option 1.

I agree with the swap of the Dwarf and Elf. The Elf can be a powerful mage specializing in Chaos spells, while the Dwarf is a very good melee unit. There's another argument in favor of the swap: both the Dwarf and the Mage often end up unused, at least in my experience, or they are given out when the game is already nearing its logical conclusion. Therefore, it wouldn't be desirable to have such a tempting pair in the same list. Regarding the free choice of faction groups, I think there's room for improvement. I'm afraid that about 80% of the participants, or even more, will choose Dungeon, Undead, and their allies, which will lead to a lack of factional diversity in the game pairings. Therefore, I still favor option 1 for team composition, but not randomly, but as I wrote above, taking into account the skill of each player. That is, first, the players are evenly divided into teams, and then a draw determines which four factions each team will play. My proposed faction breakdown: 1 - Humans, Dwarves, Dungeon, Undead; 2 - Elves, Magic, Demons, Orcs. The proposal is not final; I'm still tempted to separate the Undead and Dungeon factions