Olivia, who sent a servant after the departing Cesario to persuade him to return, tries to figure out how to woo him to love her. Feeling suddenly melancholy, Olivia sends for Malvolio because she wants someone solemn and sad to help with her strategy.
But when Malvolio appears, he behaves very strangely. He wears crossed garters and yellow stockings, smiles foolishly, and continually quotes strange phrases that Olivia does not recognize. Malvolio, we quickly realize, is quoting passages from the letter that he believes Olivia wrote to him. He suddenly exclaims things like “Remember who commended thy yellow stockings . . . And wished to see thee cross-gartered” (III.iv.44–47). Olivia, of course, knows nothing about the letter and thinks Malvolio has gone mad. When the news arrives that Cesario has returned, she assigns Maria and Sir Toby to take care of Malvolio, and goes off to see Cesario.
Malvolio is convinced—in spite of Olivia’s apparent bewilderment—that he is correct in his surmises and that Olivia is really in love with him. But when Sir Toby, Fabian, and Maria come to see him, they pretend to be certain that he is possessed by the devil. Malvolio, remembering the letter’s advice that he speak scornfully to servants and to Sir Toby, sneers at them and stalks out. Delighted by the turn the events have taken, they decide together to lock Malvolio into a dark room—a frequent treatment for people thought to be possessed by devils or madmen. Sir Toby realizes that since Olivia already thinks Malvolio is crazy, he can do whatever he wants to the unfortunate steward.
Sir Andrew enters with a letter challenging the young Cesario to a duel. Sir Toby privately decides that he will not deliver the silly letter but, instead, will walk back and forth between Sir Andrew and Cesario. He will tell each that the other is fearsome and out for the other’s blood. That, he decides, should make for a very funny duel.
Cesario comes back out of the house, accompanied by Olivia, who insists that Cesario take a locket with her picture as a love token. She bids he come again the next day, and then goes back inside. Sir Toby approaches Cesario, delivering Sir Andrew’s challenge and telling him what a fierce fighter Sir Andrew is. Cesario says that he does not wish to fight and prepares to leave. Sir Toby then returns to Sir Andrew and tells his friend that Cesario is a tremendous swordsman, anxious for a fight. When Andrew and Cesario cross paths, though, Sir Toby tells each of them that the other has promised not to draw blood in the duel. Reluctantly, the two draw their swords and prepare for a fight.
Suddenly, Antonio enters. He sees Cesario and mistakes him for his beloved Sebastian, and tells Sir Andrew that he, Antonio, will fight Sir Andrew in Sebastian’s place. Several Illyrian officers burst onto the scene. They have recognized Antonio—a wanted man in Illyria—and arrest him. Antonio, realizing that he will need to pay a bail bond in order to free himself, asks Cesario, whom he still believes is Sebastian, to return his purse (which Antonio gives to Sebastian in Act III, scene iii). Viola, however, has no idea who Antonio is. Antonio thinks that Sebastian is betraying him by pretending not to know him, and he is heartbroken. Deeply shocked and hurt, he rebukes Sebastian. The officers, thinking Antonio is insane, take him away. Viola is left with a sudden feeling of hope: Antonio’s mention of someone named “Sebastian” gives her some hope that her own brother—whom she has thought dead—is in fact alive and nearby. Viola runs off to look for him, leaving Sir Andrew and Sir Toby very confused.