By Svea Herbst-Bayliss and Carolina Mandl

(Reuters) -Hedge funds including Citadel have bought shares in smaller banks after a sell-off sparked by the failure of Silicon Valley Bank and Signature Bank, sending a signal of confidence as customers rushed to withdraw funds and investors feared a broader financial crisis.

Citadel, one of the world’s most profitable hedge funds, said in a regulatory filing on Tuesday it bought a 5.3% stake in Western Alliance Bancorporation.

Anson Funds, which manages $1.6 billion, bought an undisclosed number shares of First Republic Bank on Monday, associate portfolio manager Rob Mills told Reuters.

Western Alliance’s share price, which had tumbled on Monday, jumped as much as 46% on Tuesday after an initial halt in trading. First Republic shares rebounded 33% but were still down 63% over the last five days.

Many banks were caught in a crippling sell-off which began last week after regulators shut down Silicon Valley, the startup-focused bank of SVB Financial Group, triggering worries of a contagion across financial markets. New York’s financial regulator closed Signature, citing “a significant crisis of confidence” in its leadership after SVB’s demise.

U.S. President Joe Biden and other policymakers have attempted to calm anxious bank customers racing to withdraw cash and investors who were dumping shares.

Citadel, run by billionaire Ken Griffin, earned $16 billion in profits for investors last year and its trades are closely watched by markets for trends. A spokesman declined to comment beyond the filing.

Earlier on Tuesday, CNBC reported that billionaire investor Ron Baron said he “modestly increased” his position in broker Charles Schwab to take advantage of a double-digit sell-off.

For some investors it was time to cautiously return to the banking sector.

“It is not a credit crisis,” Anson’s Mills said. “It is a liquidity crisis and now you have JPMorgan and everyone lining up to provide (First Republic) with money as needed.”

He said his firm likes the management and loan book quality at First Republic, the nation’s 14th largest bank.

On Sunday, First Republic said it had secured additional financing through JPMorgan & Chase.

Billionaire investor Bill Ackman, who runs hedge fund Pershing Square Capital Management, wrote on Twitter on Monday that “regional banks are an incredible bargain now as long as the gov’t does the right thing.” He cited risks in these trades, but said he thought other big name investors were putting money to work in that sector. He tweeted that his firm was not investing in banks right now. His spokesman declined to comment.

The KBW Bank Index, which reflects how regional banks are faring, rose 5% on Tuesday after tumbling 19% in the last five days.

Griffin, whose hedge fund bought the large Western Alliance stake, told the Financial Times on Monday the U.S. government should not have stepped in to protect SVB depositors, arguing that bank balance sheets are at their strongest ever.

If the government had stayed away, investors would have learned a lesson that “risk management is essential,” the newspaper quoted Griffin as saying.

(Reporting by Svea Herbst-Bayliss in Boston, Mehnaz Yasmin in Bengaluru; editing by Uttaresh Venkateshwaran and Richard Chang)

---