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In this tutorial We’re going to learn how to create that pillowed effect on text.

Step 1
Let’s start with creating a New Document. You can use my settings or try your own.

Go to Edit / Fill and choose 50% Gray.

Step 2
Select this color #c0c0c0 for foreground and grab the Text Tool.
Type what you want. I suggest you write just one word to try the effect.

What we're creating here is a mask, so then we can transform the texture later.
Step 3
Now, go to the Blending Options of this text.
First choose Inner Shadow and set these values:

Blend Mode: Multiply; Opacity: 20; Angle: -30; Distance: 3; Choke: 10; Size: 8
Step 4
Then, Inner Glow

Blend mode: Multiply; Opacity: 20; Choke: 0; Size: 10
Step 5
Some Bevel and Emboss

Style: Inner Bevel; Depth: 231; Direction: Up; Size: 18; Soften: 8; Angle: 110; Uncheck use global light; Altitude: 45.
Step 6
Finally Gradient Overlay

Blend Mode: Multiply; Opacity: 30; Angle: 90; Scale: 50.
Step 7
You should get something like this:

Now we’re going to save this document as a Mask. Go to File / Save As and for the title you can choose something that let you know that THIS is the mask like... mask? haha ok just name it as you like.
We don't want to mess up the mask, so we will have to save it again, with a different name. Once again go to File / Save as and save it with a different name like: "Pillowed text".
Step 8
Now let's get this boring part over with. Here I have a pattern which I will use for the text.

Open it, select all, copy and paste it into the "pillowed text" document.
Your layers should look like these:

Step 9
Next, hit Ctrl+A o just go to Select / All. We're doing this because when we apply the Mask using displace filter, it will apply correctly to the whole image if it is all selected. If you skip this step (you can try it to see the difference) it won't work properly.
Well, back to the text document. Is everything selected? Ok then, go to Filter / Distort / Displace and apply these settings:

Step 10
Next, it will ask you to select the mask we're going to use for displace. Choose the one you've previously saved.

And this is what you get:

Step 11
Well, we can see the displacement, but we can not read the words so, go to the layers panel. Select the texture layer. Put the cursor between the texture layer and the text layer. While you're doing this hold down ALT. You see the cursor is different now. It's like two circles and a little arrow, right? just click.
You've just created a Clipping Mask. There's another way to do this. You can go to Layer / Create Clipping Mask. You will see that now the texture layer has a little arrow before the thumbnail.

Step 12
And here's the image:

Well that is actually the whole effect we want to achieve. I can see that the texture is a little bit dark so let's add some brightness to it.
Step 13
Go to Image > Adjustments > Brightness and contrast and set these values:

Set 41 for Brightness and hit OK.
Result
And that would be it. For the final effect I just painted the background White and drop some shadow to the text to give it some depth.
Here's the final image:

Hope you’ve enjoyed this tutorial.
See ya!
VG

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Jason